'Subprime credit losses are accelerating': There's a problem in the auto loan market

An employee uses a forklift to transport an old AvtoVAZ Lada car at Vtormet scrappage plant outside Moscow, January 30, 2013.REUTERS/Tatyana Makeyeva

The auto loan market is showing signs of stress.

US auto loan and lease credit loss rates weakened in the second half of 2016, according to a new report from Fitch Ratings, which said they will continue to deteriorate.

"Subprime credit losses are accelerating faster than the prime segment, and this trend is likely to continue as a result of looser underwriting standards by lenders in recent years," said Michael Taiano, a director at Fitch.

The subprime auto loan delinquency rate is moving higher

Fitch

The 60+ day delinquency rate for subprime is closing in on the 6% mark, and is the highest in at least seven years.

"Fitch expects that deteriorating credit performance will be more acute in the subprime segment, driven to some extent by the expansion of less-tenured independent auto finance companies that have demonstrated higher-risk appetites and less underwriting discipline," the report said.

Used vehicles are falling in value

Fitch

Meanwhile, used vehicle values are falling.

Fitch said:

"NADA’s Used Vehicle Price Index, which measures wholesale prices of used vehicles up to eight years old, declined over 6% in 2016 and was down 8% year over year through February 2017, marking the eighth consecutive monthly decline. Used vehicle prices were down 1.6% sequentially in February, reflecting the sharpest monthly decline for the index since November 2008 and a seasonal anomaly for February."

There's a couple of reasons that might be happening. There's an increase in off-lease vehicle inventory, adding to supply, and there has been "a sharp increase in new vehicle incentives," according to Fitch. That has broad ramifications, as it pushes down residual values for cars.

Adam Jonas, Morgan Stanley's autos analysts, said in a recent note on Ford:

"Residual values impact the auto business in multiple ways. It impacts profit within Finco directly through lower recovery rates. It impacts unit volume of the core automotive business. It impacts vehicle mix (lower payment, bigger car) and the ability of consumers to trade up. It impacts vehicle pricing as new and used values tend to move together."

Banks are pulling back from auto lending, but others are stepping in

Fitch

Banks are losing share in the auto lending market, potentially as a result of tightening lending standards. Independent finance companies and credit unions are stepping in to the void.

"Independent finance companies and credit unions gained the most ground in 2016, ending the year with 20.5% and 25.4% market share, respectively," Fitch said.

Fitch highlighted the impact auto finance companies were having on the market:

"Fitch expects that deteriorating credit performance will be more acute in the subprime segment, driven to some extent by the expansion of less-tenured independent auto finance companies that have demonstrated higher-risk appetites and less underwriting discipline."